The U.S. Federal Reserve raised interest rates in 2016, and the central bank has indicated its intention to hike interest rates as many as three times in 2017.
With the Fed embarking on a path of monetary tightening, the big question is which interest-rate sensitive stocks will get hit the hardest.
Real Estate Investment Trusts, or REITs, are vulnerable to higher interest rates. A rising rate environment makes it costlier to take on debt, which REITs utilize heavily to purchase new properties.
While higher interest rates are a headwind going forward, the following three REITs are well-run businesses that can withstand all interest rate cycles. And, they offer high dividend yields along with continued dividend growth.
Welltower (NYSE: HCN)
Welltower owns health-care properties, such as senior housing and outpatient facilities. Its portfolio includes 1,400 properties in the U.S., Canada and the U.K.
The company enjoys sound fundamentals, thanks to its high-quality property portfolio. For example, REITs usually report earnings in terms of funds from operation, or FFO, instead of EPS.
Since REITs incur significant non-cash operating expenses such as depreciation, FFO is widely seen as a more accurate measure of financial health.
On this basis, Welltower is performing very well. FFO rose by 6% through the first nine months of 2016. For the full year, the company expects FFO to increase 3%-4%.
Welltower’s unique advantage is that it has restructured its property portfolio to focus on private-pay sources, which are higher-margin. Approximately 93% of Welltower’s revenue will be derived from private-pay facilities moving forward.
Welltower has a long history of paying steady dividends. It recently hiked its dividend by 1%, and has declared 183 quarterly dividends in a row without interruption.
The stock offers a dividend yield above 5%, which is still a highly attractive payout, even if interest rates rise slightly.
Omega Healthcare Investors (NYSE: OHI)
Omega, like Welltower, owns health-care properties. Its portfolio contains 1,000 properties in the U.S. and the U.K.
The reason why two health-care REITs make the list is because health care is likely to enjoy a long-lasting tailwind, thanks to the aging U.S. population.
There are approximately 76 million Baby Boomers in the U.S., and life expectancy continues to rise. This should result in prolonged growth in health-care spending above the rate of GDP growth in the U.S.
As a result, Omega’s fundamentals are strong. Omega grew FFO by 30% through the first nine months of 2016.
These favorable demographic trends are the reason why Omega expects to increase adjusted FFO by 10% in 2016.
Such strong cash flow allows Omega to pay a hefty 7.8% dividend yield. Omega’s dividend yield towers above the 2% average dividend yield in the S&P 500.
And, Omega has lifted its payout for more than 10 consecutive years.
Digital Realty (NYSE: DLR)
Digital Realty is a red-hot REIT — the stock has risen more than 30% in the past 12 months.
The rally has been driven by booming demand for Digital Realty’s data center properties. These are real estate assets that help companies store immense amounts of data.
Digital Realty operates data centers in North America, Europe, and Asia. It has 2,000 tenants, ranging across several sectors.
The company has a strong tenant base, populated by many members of the Fortune 100. Digital Realty’s occupancy is currently 93%, indicating the strong demand for its properties.
This fueled 15% growth in rent revenue to start 2016. FFO rose 10% through the first nine months of the year, and the company expects 8% growth in FFO for the full year.
Digital Realty has increased its dividend each year since its IPO in 2004, and the stock has a 3.5% dividend yield.
Bottom Line on These REITs to Buy
REITs are required by the IRS to distribute at least 90% of their taxable income to shareholders. This typically results in high dividend yields across the sector.
Higher interest rates pose a challenge in 2017, but these three REITs have proven the ability to navigate interest rate cycles before; they will likely do so again with flying colors.
And, it will still be years before fixed income or bank products like CDs compete with the high dividend yields offered by these REITs.
As a result, Welltower, Omega Healthcare, and Digital Realty remain attractive for investors who desire income.
Disclosure: The author is personally long HCN, DLR.